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Say on pay gains strength in Europe

In Europe, the CEO may still have the cushy corner office, but now shareholders will be the ones signing off on his paycheque.

Daniel Vasella, chairman of Novartis, attends the annual meeting of the World Economic Forum (WEF) in Davos in this January 25, 2013 file photo. Novartis said on February 19, 2013 it would scrap a $78 million pay package for outgoing chairman Vasella, bowing to mounting anger in Switzerland before an investor meeting on February 22. (Denis Balibouse / Reuters)

In Europe, the CEO may still have the cushy corner office, but now shareholders will be the ones signing off on his paycheque.

A series of sweeping public votes across Europe this month put the power to determine how much to pay top executives at publicly-traded companies into the hands of investors.

Even though compensation experts in Canada say those measures are unlikely to migrate, they are watching the European movement very closely.

“It’s very aggressive in Europe and that’s because European regulators have said ‘enough is enough,’ ” said Richard Leblanc, associate professor of law, governance and ethics at York University.

In typically pro-business Switzerland, shareholders now have a binding vote on compensation; big rewards for new and departing managers — so-called golden handshakes and golden parachutes — have been banned. Law breakers can be slapped with stiff fines and even jail time.

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The recent revelation that the outgoing chairman of Swiss drug maker Novartis AG, Daniel Vasella would be paid his annual salary for the next five years (worth about $78 million U.S.) to prevent him from taking a job with the competition is said to have tipped the scales in favour of the proposal. (Vasella turned down the package.)

New legislation in the European Union will prevent bankers from collecting a bonus that is larger than their regular salary.

“I would argue that generally executive compensation for publicly traded companies across Canada is fairly well done. Good governance, good principles, good process, good performance metrics,” said Ian Cullwick, vice-president, leadership and human resources research at the Conference Board of Canada.

In 2009, G20 countries, including Canada, adopted a set of principles on executive compensation meant to tie pay to performance, improve disclosure and transparency, and ensure that compensation committees can act independently.

Canada’s big banks, along with U.S. companies, have adopted non-binding say-on-pay measures that allow shareholders to voice an opinion on whether an executive’s pay package is appropriate.

A study by the University of Toronto released last month, for instance, found that for more than 80 per cent of companies in the S&amp;P/TSX 60 index, CEO pay was aligned with company performance.

“Canada generally has done a better job of pay for performance,” Leblanc said. “We have compensation committees that are stepping up and turning their attention to making sure there is pay for performance.”

Hugh Mackenzie of the Canadian Centre for Policy Alternatives feels that legislation is needed to break the pattern of outsized CEO pay.

The group’s own research shows that the top 100 chief executive officers in Canada earned $7.7 million on average in 2011earned $7.7 million on average in 2011 — roughly 169 times what the average worker makes.

Compensation committees are trapped, Mackenzie said. “They’re trapped by a process, by the fear that if they don’t play ball with the exaggerated levels of compensation that they will get second-rate corporate leaders and the company will perform badly,” he said. “There needs to be something done to break that cycle.”

So how did executive pay get so complicated? Before the financial crisis, a large part of an executive’s stock options would vest after a certain time period, which came to be known as “pay for pulse.”

Today, the balance has tilted to what’s known as performance-related equity and risk-adjusted compensation. That’s made executive compensation an even more complicated exercise that involves salary, bonus, stock options, shares that are awarded for performance over time, perks (such as a company car or first-class air travel) and severance.

“You’ve got multiple vehicles for pay and multiple performance periods so it becomes very complex very quickly for the comp committee let alone investors to understand,” Leblanc said. “You risk the chance of not aligning pay for performance because of the complexity.”

Another problem: The basis for comparison tends to be peers, who may also be overpaid. That’s made worse when companies accept the popular wisdom that no company wants to pay its CEO below the median.

“Management argues you’re going to lose the talent. But it becomes a moving freight train where it becomes hard to step up and say no,” Leblanc said.

Anand Parsan, senior principal, executive compensation at Hay Group, an HR management consulting firm, argues that big companies, particularly in financial services, will come up with ways to get around the legislation.

“That might lead to unintended consequences such as increasing fixed pay and decreasing the variable pay. On a net basis, you may be paying the same amount but it gives the organization less flexibility,” he said.

Daniel Muzyka, president and chief executive of the Conference Board of Canada said Switzerland, in particular, should be worried about the impact of the new measures.

“If the regulations become onerous . . . what do companies do? They move locations, they move their corporate headquarters.”

Mackenzie argues that performance-based compensation should be based on increased sales or other metrics, rather than stock prices.

A CEO may set a goal, for instance, of opening an office in Hong Kong to increase sales to China by 5 per cent. Success or failure could be assessed a year later by the board’s compensation committee.

“The big problem with that is that it’s hard work for the CEO because he or she has to be able to put their mind to it, and it’s hard work for the board because they have to understand the company well enough to know whether these are good objectives to have,” Hugh said.

“Then they may have to say, ‘You didn’t do this and should be penalized for it.’ Compare that to ‘We’re going to grant you 100,000 stock options,’ end of story.”

The next few years are likely to see a greater push to linking executive pay to long-term value creation, Leblanc said.

Mackenzie said that would still take a drastic change in thinking. “It’s only long term if the shares don’t vest until after the CEO has retired. Everything else is short term.”

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